Lowland Investment Company

LOWLAND INVESTMENT COMPANY PLC

ANNUAL FINANCIAL RESULTS FOR THE YEAR ENDED 30 SEPTEMBER 2023

This announcement contains regulated information.

INVESTMENT OBJECTIVE

The Company aims to give shareholders a higher than average return with growth of both capital and income over the medium to long-term, by investing in a broad spread of predominantly UK Companies. The Company measures its performance against the FTSE All-Share Index Total Return.

INVESTMENT POLICY

Asset Allocation

The Company invests in a combination of large, medium and smaller companies listed in the UK.  We are not constrained by the weightings of any index; we limit risk by running a diversified portfolio, which is constructed on a bottom-up, stock-picking basis.  In normal circumstances up to half the portfolio is invested in FTSE 100 companies; the remainder is divided between small and medium-sized companies.  The Manager may also invest a maximum of 15% in other listed trusts.

Dividend

The Company aims to pay a progressive dividend, with each quarterly dividend equal to or greater than its previous equivalent.

Gearing

The Board believes that debt in a closed-end fund is a valuable source of long-term outperformance, and therefore the Company will usually be geared.  At the point of drawing down debt, gearing will never exceed 29.99% of the portfolio valuation but generally will be around half that level. Borrowing will be a mixture of short and long-dated debt, depending on relative attractiveness of rates.

Key Data as at 30 September 2023

·      Net Asset Value ('NAV') Total Return^1,8 of 17.2%

·      Benchmark Total Return² of 13.8%

·      Dividend growth of 2.5%

·      Dividend for the Year³ of 6.25p

Sources: Morningstar Direct, Janus Henderson, Factset

Historical Performance (%)

CHAIRMAN'S STATEMENT

Performance

I am pleased to report that your Company made sound progress during its sixtieth year in meeting its twin objectives of growth in capital and income. Net Asset Value ('NAV') increased by 17.2%, outstripping the FTSE All-Share benchmark return of 13.8%. In addition, Earnings per Share ('EPS') grew by 10% to 6.7p, fully covering the recommended total dividend of 6.25p. It is a source of some satisfaction that the Company has maintained or increased its annual dividend each year since its first dividend in 1963.

I will cover capital growth first. In previous years we have referred to the Company's weighting in small and medium-sized companies, much greater than that of the Company's benchmark, as having held back capital growth. The long-term trend for such companies to outperform larger companies was interrupted by Brexit and then COVID. We are confident that the trend will reverse, but it has not happened yet. In the year ended 30 September 2023, the FTSE 100 returned 14.7%, a better return than the indices for medium and smaller companies, and most especially AIM, which registered a negative 8.3%. Lowland's portfolio was invested 47.2% in the FTSE 100, against the benchmark's 84.4%. However, the portion of Lowland's portfolio invested in each segment of the market outperformed each of the relevant indices, as indicated below.  This enabled Lowland to beat the benchmark, an achievement given its bias to the smaller end of the market.

Total Returns (%)

*Benchmark - FTSE All-Share

I mentioned last year that the Board also monitors performance against a composite index, being 50% FTSE All-Share/50% Numis Smaller Companies ex Investment Trusts, which is more representative of the universe in which we invest. Lowland substantially outperformed this composite index which returned 8.4%. We aim to beat the FTSE All-Share, but use the composite index as a check - if we are not beating the All-Share, is it because we are consciously biased to out-of-fashion segments of the market, or are we getting it wrong. In this case the health check is, thankfully, doubly reassuring.

The Fund Managers go into more detail as to the weighting of the portfolio, and indeed the reasons why it performed very satisfactorily. It is worth highlighting that a significant factor underlying performance has been the number of take-overs at values which, while at a premium to pre-bid prices, are not necessarily reflective of the true value of the company. I refer further to this in the outlook section below.

Turning to the revenue account, your Board is highly cognisant of the importance to shareholders of a regular, dependable and growing level of dividend. Despite moments of concern resulting from the hiatus in normal economic activity which accompanied COVID, the Board stuck by its progressive quarterly dividend policy. It did this mindful of the availability of reserves, and with confidence that the Company's income would recover. Happily, that confidence has been rewarded and the EPS increased by 10% in the year.

Dividends

Having maintained the first and second dividends at 1.525p, your Board had sufficient confidence to increase the third and now recommend an increase in the final dividend, to 1.60p. These last two dividends represent an increase of 4.9%, resulting in a 2.5% increase in the year's total dividend.

Total dividends for the year have risen each year since 2009 and have been at least maintained since the Company's launch in 1963. In 2012, prompted by feedback from shareholders at an AGM, the Company adopted a quarterly dividend policy.

It is fair to say that when we began paying quarterly dividends, we did not necessarily envisage that each quarterly dividend would be equal to or greater than its previous equivalent. We have nurtured this practice since 2012 and feel that it has been suitably tested under fire, to be promoted from an aspiration to a firm Board policy, which we will strive hard to follow. Research tells us that a regular and growing dividend is especially valued by private investors; we believe we will be able to meet their requirement.

It flows from the above that shareholders should expect to receive quarterly dividends of no less than 1.60p in respect of the 2024 financial year.

Gearing

The Company has a medium-term borrowing facility of £40m, and £30m of long-term debt at a fixed rate of 3.15%, maturing in 2037. We see the ability to gear the portfolio as a key benefit of an investment trust. We do not tend to move gearing levels dramatically. Gearing amounted to 12.3% at the year-end compared with 12.5% a year earlier.

Ongoing charges

Ongoing charges remained around 0.6%. We reviewed the fee arrangements with Janus Henderson during the year and believe them to be competitive.

Discount

During the financial year the discount varied from 5.2% to 14.9%, ending the year at 14.2%. The Board has a clear policy with regard to discount, which is set out in the annual report.

The Board

As previously indicated, an external recruitment process is underway for the appointment of a new Director. We expect to announce the appointment shortly. The process involved a diverse range of individuals, and the successful candidate will be the one we believe will contribute most to the success of the Company.

I intend to step down at the 2025 AGM. My replacement as Chairman is expected to be one of the serving Directors, and will be announced before then.

The changes set out here are part of the orderly planned process of Board renewal, and are consistent with the policy on tenure and diversity set out in the annual report.

Contact

I and the Board are always pleased to hear from shareholders. Please contact me with comments or questions via [email protected]

AGM

The AGM will be held at the Janus Henderson office on 24 January 2024.  Full details of the business to be conducted at the meeting are set out in the Notice accompanying this report.  Our Fund Managers, James Henderson and Laura Foll will be making a presentation to shareholders.  The Board and Fund Managers always welcome the opportunity to hear from shareholders, and we encourage as many as possible to attend.

Outlook

Chairmen, and other commentators, are apt to open by remarking on 'uncertain times'. No-one would dispute that we are in such times now. In reality, however, we always are, and what varies is the depth of uncertainty.

I think it more constructive to comment on some more measurable considerations, and one in particular, which is value. The Fund Managers refer to the miserly valuation of the UK market in general, the discount then applied to the smaller end of the market, and finally to the extraordinarily low valuation of our own portfolio, chosen as it is to grow value and income. This amounts to 8.5 times historic earnings, which reduces to 7.3 times on a 'look-through' basis after taking the Lowland share price discount into account. The attractiveness of valuations is underlined by two other considerations; firstly the level of take-over activity, and secondly the dividend yield, which amounts to 5.5% on your Company's shares.

There can have been few times when valuation considerations have been more persuasive.

Robert Robertson

Chairman

December 2023

FUND MANAGER'S REPORT

Overview

It is pleasing to report on a year of positive absolute NAV growth, modest outperformance versus the Company's FTSE All-Share benchmark and further income recovery. On a longer term basis the Company's NAV performance remains volatile. The three year NAV return captures the post pandemic economic recovery, while the five year returns remain disappointing, reflecting poor performance in the years following the Brexit referendum.

It is always worth remembering that our portfolio is invested in a blend of small, medium and large UK companies, which results in greater exposure to the UK economy than the highly international FTSE All-Share benchmark. This is for the simple reason that smaller businesses tend to focus first on their domestic market before expanding overseas. This means that when the UK economy performs better than expected (as the ONS data now shows that it did in the post-pandemic recovery), Lowland has a tendency to outperform. Performance in the 2023 financial year reflects this. In the autumn of 2022 the consensus among economists was that 2023 would be a recession year, whereas the consensus is now for modest real GDP growth of 0.4%. 

While it is gratifying to be reporting on a period of better NAV growth and a modestly better than expected UK economy, arguably the Company's performance this year has come about due to a continuation of a concerning trend in the UK equity market, namely de-equitisation.

We have long written about the valuation discount of UK equity markets relative to developed overseas markets. This valuation gap has shown no signs of narrowing http://www.rns-pdf.londonstockexchange.com/rns/6268V_1-2023-12-4.pdf

.

There are a variety of ways this valuation discount could theoretically close:

Our frustration is that while we have seen a short-term performance benefit from these takeovers, many are at valuation levels that do not reflect the long-term prospects of the business. Therefore a short-term boost to performance means these companies are lost to the UK stock market, with very little replacing them via Initial Public Offerings ('IPOs'). In order to counteract this trend, smaller company boards (often feeling vulnerable to acquisition) are announcing increasing share buyback activity (please see chart below). While this is boosting valuation levels across certain companies, and is arguably attractive from a capital allocation perspective given where UK valuation levels are, it further contributes to the de-equitisation of the market. We are hopeful that in writing next year's report we will be able to demonstrate better underlying health of the UK equity market, whether through more buoyant economic conditions and/or from government initiatives focused on the area (such as the Mansion House Compact).

2.5% of the FTSE 350 market capitalisation disappeared in buybacks in 2022 alone, a trend which has accelerated in 2023.

http://www.rns-pdf.londonstockexchange.com/rns/6268V_3-2023-12-4.pdf

Performance attribution

This financial year saw a repeat of trends in the previous year, in that small and medium sized UK companies underperformed larger ones (see the fifth column, 'index total return' in the table below). It is therefore pleasing to note that Lowland outperformed its FTSE All-Share benchmark despite this 'company size' headwind to performance. If we break down the portfolio returns by index, it can be seen that in each size allocation, the Company outperformed (comparing the third and fifth columns in the table). We go into more details of the stock-specific drivers of this later in this section.

Weights for Lowland and the FTSE All-Share are shown as at financial year end. Note the weights for Lowland do not add up to 100, as there is a small % of the portfolio held overseas and held in the FTSE Fledgling Index. Lowland portfolio returns are calculated excluding cash.

Illustrated in a different way, while there was a 'size allocation' headwind to performance this year, this was more than offset by stock selection (and gearing), resulting in NAV growth ahead of the benchmark: http://www.rns-pdf.londonstockexchange.com/rns/6268V_4-2023-12-4.pdf

While in the previous financial year there was a clearly identifiable reason for the FTSE 100 outperformance, which was driven by the war in Ukraine (causing fossil fuel prices to increase materially, boosting large index positions such as Shell and BP), this year the reasons for the FTSE 100 outperformance were less clear cut.

Smaller companies are, on average, both more domestic in their exposure and also more cyclical. There was therefore an element this year of smaller company shares de-rating in the face of perceived earnings risk, as interest rates rose and consumers saw real wages under pressure. There were clear pockets of weakness in the economy and this can be seen in the stock detractors table (the second table below). Advertising revenue, for example, has been under pressure as corporates looked to curtail spending - this caused earnings pressure in companies such as free-to-air broadcaster STV. There were also, however, pockets of strength - infrastructure spending, for example, particularly in the US, has continued to see good growth and this benefitted industrial conglomerate Hill & Smith (see the contributors table below). As always, a top down view of the economy will only take you so far and it is important to remember we are investing in individual companies with the ability to steer their own ship, not proxies for the broader economy.

Turning to stock specifics, the top ten contributors to relative return during the year were:

*Share price performance up until the point of acquisition

Source: Share price total return sourced from Bloomberg. Attribution sourced from Factset.

Looking in more detail at the drivers of these best performers, they tend to fall into distinct categories:

The largest ten detractors from relative return were:

Source: Share price total return sourced from Bloomberg. Attribution sourced from Factset.

Looking in more detail at the detractors they broadly fall into two categories (focusing on companies where we are overweight relative to the benchmark):

Portfolio valuation

While the first chart in this Managers' Report demonstrates the degree of UK equity valuation discount relative to overseas peers, what is less widely discussed is that there is a subset of UK equities that trades on an even larger valuation discount. Domestic earners within the UK have meaningfully underperformed in the years following the Brexit referendum. Lowland, because of its investment in a blend of small, medium and large companies, is structurally more exposed to 'domestic UK'. If, for example, we look at underlying portfolio sales, Lowland's portfolio revenues are 49% in the UK compared to only 23% in the FTSE All-Share benchmark (both figures as at end September '23). Lowland therefore captures more of these lowly valued domestic businesses. This can be seen at the portfolio level, where the portfolio trades at a discount to both the benchmark, and also relative to its own 10 year average:

Source: Factset, weighted harmonic average.

Note that at the financial year end, the Company also traded at a discount to its net asset value of 14.2%. Therefore taking this additional layer of discount into account, the current 'look-through' valuation on the portfolio is 7.3x 12 month historic earnings.

Portfolio Activity

The level of activity over the year has been low. Turnover, as defined by purchases plus sales divided by two, was £54.5mn or 14.6%. Given the weakness in medium and smaller companies there is a desire to refresh the portfolio with purchases in this area. However, the headwinds of poor investor sentiment and a weakening economy have meant it has been premature to buy other than very selectively.

The five largest purchases during the year were:

·      Vanquis Banking

·      Legal & General

·      Conduit Holdings

·      Marshalls

·      Strix Group

Of the five largest purchases over the year, four were in smaller companies and three of those have fallen significantly since purchase, with one rising (Conduit). At the time of purchase the three fallers had already experienced substantial share price falls. However, in a bear market a large fall does not mean 'it is all in the price'. With this in mind we have trodden gingerly in buying stocks that are at seeming bargain levels; they can fall further. We are positioned to buy more in the smaller company area as the weighting to it in the portfolio is low by historic standards and it is in smaller companies over the long term that the best returns have been made. We will slowly and selectively be buyers of smaller companies so the portfolio will be well positioned for a return of some investor confidence, which in time will happen.

The five largest sales during the period were:

·      K3 Capital *

·      AstraZeneca

·      Numis *

·      Convatec

·      Devro *

Three of these (starred) came after cash takeover approaches; this should remind investors that there is very real long-term value in the quoted sector.

Dividends

2023 saw a further recovery in investment income, with the Company generating 6.7p in revenue earnings per share compared to 6.1p in the previous year. Excluding special dividends, revenue earnings per share were 6.4p, with positions such as Irish insurer FBD Holdings and iron castings producer Castings paying large special dividends. Elsewhere there was a further recovery in dividends from holdings such as Shell and BP which cut their dividends materially during the pandemic. Encouragingly for future dividends, the dividend pay-out ratio in the UK remains modest. In our view this is because following the pandemic (and its associated widespread dividend cuts), some companies took the opportunity to permanently lower their pay-out ratios to arguably more sustainable levels.

ESG

Our approach to environmental, social and governance (ESG) matters is laid out in more detail in the annual report. We hold the view that seeking to better understand how companies are managing material ESG factors and engaging with them is a route more conducive to long-term progress than rigid sector exclusions. We have included case studies on some recent discussions with companies in the annual report. 

Outlook

When we were writing last year's annual report the expectation was that 2023 would be a recession year. This has not proven to be the case. While 0.4% real GDP growth in '23 (expected at the time of writing) cannot be classed as stellar it needs to be viewed in the context of interest rates rising to a decade high level and inflation coming down from over 10%.

When we look ahead to 2024 we continue to see pessimism reflected in both company valuations and economic growth forecasts. The best remedy for this pessimism is to meet company management teams, who serve as a reminder of the dynamism and innovation that exist in the UK. The consumer is enjoying real wage growth, with unemployment remaining low. Corporate balance sheets are, on the whole, conservative. Yet company valuations continue to reflect a deep scepticism about the sustainability of earnings. We disagree. The challenging backdrop of recent years (COVID, the Ukraine war) has forced companies to look hard at their cost base and run leanly. On any pickup in sales, it is therefore our expectation that the boost to earnings will be meaningful.

The best returns can be made at times when earnings have the potential to grow and valuations are starting from a low base. It is hard to argue that we are not in those times currently.

James Henderson and Laura Foll

Fund Managers

December 2023

Twenty Largest Holdings as at 30 September 2023

The stocks in the portfolio are a diverse mix of businesses operating in a wide range of end markets.

At 30 September 2023 these investments totalled £157,098,000 or 40.0% of portfolio.

* Not in the top twenty largest investments last year

MANAGING RISKS  

The Board, with the assistance of the Manager, has carried out a robust assessment of the principal risks and uncertainties, including emerging risks, facing the Company including those that would threaten its business model, future performance, solvency, liquidity and reputation. The Board regularly considers the principal risks facing the Company and has drawn up a matrix of risks. The Board has put in place a schedule of investment limits and restrictions, appropriate to the Company's investment objective and policy, in order to mitigate these risks as far as practicable. The principal risks which have been identified and the steps taken by the Board to mitigate these are set out in the table below. The principal financial risks are detailed in note 14 to the financial statements.

At the half year stage, the Board completed a thorough review of the principal risks and uncertainties facing the Company. No changes were made to the principal risks and uncertainties as a result of this.

Emerging risks

In addition to the principal risks facing the Company, the Board also regularly considers potential emerging risks, which are defined as potential trends, sudden events or changing risks which are characterised by a high degree of uncertainty in terms of the probability of them happening and the possible effects on the Company. Should an emerging risk become sufficiently clear, it may be moved to a principal risk.

VIABILITY STATEMENT

The Company is a long-term investor; the Board believes it is appropriate to assess the Company's viability over a five-year period in recognition of our long-term horizon and what we believe to be investors' horizons, taking account of the Company's current position and the potential impact of the principal and emerging risks and uncertainties as documented above in this Strategic Report.

The assessment has considered the impact of the likelihood of the principal and emerging risks and uncertainties facing the Company, in particular investment strategy and performance against benchmark, whether from asset allocation or the level of gearing, and market risk, including climate risk, in severe but plausible scenarios, and the effectiveness of any mitigating controls in place.

The Board has reviewed three additional model scenarios which evaluate the impact on the revenue forecast and reserves.  These range from a worst case scenario which includes a 10% reduction in income and net assets, through to a scenario where there is no income growth and no reduction in income or net assets.  Increasing dividends to shareholders could continue under all three scenarios, although the Company would need to use its capital reserves in some cases. None of the results of the scenarios used would therefore threaten the viability of the Company.

The Board has taken into account the liquidity of the portfolio and the gearing in place when considering the viability of the Company over the next five years and its ability to meet liabilities as they fall due. This included consideration of the duration of the Company's loan facilities and how a breach of the loan facility covenants could impact on the Company's liquidity, net asset value and share price.

The Board does not expect there to be any significant change in the current principal risks and adequacy of the mitigating controls in place. Also the Directors do not envisage any change in strategy or objectives or any events that would prevent the Company from continuing to operate over that period as the Company's assets are liquid, its commitments are limited and the Company intends to continue to operate as an investment trust. Only a substantial financial crisis affecting the global economy could have an impact on this assessment.

In coming to this conclusion, the Directors have considered the ongoing impact of the wars in Ukraine and Israel, in particular the impact on income and the Company's ability to meet its investment objective. The Board does not believe that they will have a long-term impact on the viability of the Company and its ability to continue in operation, notwithstanding the short-term uncertainty they have caused in the markets.

Based on this assessment, the Directors have a reasonable expectation that the Company will be able to continue in operation and meet its liabilities as they fall due over the next five-year period.

RELATED PARTY TRANSACTIONS

The Company's current related parties are its Directors and Janus Henderson. There have been no material transactions between the Company and its Directors during the year. The fees and expenses paid to Directors are set out in the Annual Report. There were no outstanding amounts payable at the year end.

In relation to the provision of services by Janus Henderson, other than fees payable by the Company in the ordinary course of business and the provision of sales and marketing services, there have been no material transactions with Janus Henderson affecting the financial position of the Company during the year under review. More details on transactions with Janus Henderson, including amounts

outstanding at the year end, are given in the Annual Report.

STATEMENT OF DIRECTORS' RESPONSIBILITIES

In accordance with Disclosure Guidance and Transparency Rule 4.1.12, each of the Directors confirms that, to the best of his or her knowledge:

• the Company's financial statements, which have been prepared in accordance with UK Accounting Standards and applicable law give a true and fair view of the assets, liabilities, financial position and return of the Company; and

• the Strategic Report, Report of the Directors and financial statements include a fair review of the development and performance of the business and the position of the Company, together with a description of the principal risks and uncertainties that it faces.

For and on behalf of the Board

Robert Robertson

Chairman

December 2023

INCOME STATEMENT

The total columns of this statement represent the Profit and Loss Account of the Company. The revenue return and capital return columns are supplementary to this and are prepared under guidance published by the Association of Investment Companies. All revenue and capital items in the above statement derive from continuing operations. The Company had no other comprehensive income other than those disclosed in the Income Statement. The net return is both the profit for the year and the total comprehensive income.

STATEMENT OF CHANGES IN EQUITY

STATEMENT OF FINANCIAL POSITION

STATEMENT OF CASH FLOWS

NOTES TO THE FINANCIAL STATEMENTS

¹The residual will be transferred to the revenue reserve (2022: transfer to revenue reserve £26,000)

Neither the contents of the Company's website nor the contents of any website accessible from hyperlinks on the Company's website (or any other website) are incorporated into, or form part of, this announcement.